Monday, August 27, 2012

Time is Money and other Fetishes

Guest post by Marc Chandler (

Doesn't the idea that "time is money" capture the spirit of modernity? Yet the Greek Prime Minister is suggesting that all Greece needs is some breathing room, given the depth of the economic contraction. It does not need any more money, he tries to reassure.

The Troika will not find this believable. Press reports suggest the IMF projects that even without the 2-year extension that Samaras is pleading for, Greece will need another 13-14 bln euros to cover the 2015-2016 period. If a 2-year extension is granted, the IMF reportedly projects Greece needs to be twice this.

Samaras may be better served by being more direct. He inherited a mess and is making every effort to fix it. The excesses took many years to build and they cannot be unwound in a day. It is unreasonable for the creditors to make a fetish of arbitrary time frames and targets. If it takes Greece another couple of years and another 30 bln euros to set its house right, isn't this preferable to the hundreds of billions of euros that are at stake in any exit scenario?

Despite the whining by some, Germany has hardly paid a penny to Greece. That it is fatigued by bailing out its weaker neighbors is more crass politics than real economics. Greece's biggest creditors do not include Germany. The ECB's Greek bonds were purchased with newly printed euros that the ECB continues to drain from the banking system.

Germany does participate in the IMF's aid, but then so does the US and China, for example, as do all IMF members. The EU assisted Greece, and Germany shares some of this exposure. These costs are also mitigated by the savings Germany is making through lower interest rates.

The pressure on Greece coming from the threat it is forced out of monetary union is not of Greece's doing, but of some loose-lipped politicians. For every Greek official that has endorsed continued membership there seems be at at least two officials from creditor countries, including Germany, that talk about it leaving. Membership in EMU enjoys consistently higher popular support in Greece than in Germany. Germany, moreover, never had a referendum on EMU in the first place.

That Greece is not adhering to the agreement struck is conceded. Yet that does not warrant eviction. Otherwise, other countries would also likely be ousted. It was just a few months ago that coming out of a summit that underscored the importance of adhering to fiscal adjustments, Spain's Rajoy unilaterally announced his country was going to violate its agreement. Italy has also declared it will miss its targets.

Look at the Netherlands. Its national election in September 12. The head of the Socialist Party, which is leading in most polls, is committed to the EU-mandated 3% budget deficit target, but in 2015 not 2013. Nor should it be forgotten that when Germany and France finagled their way out of fines, which perhaps, like the picture of US President George Washington throwing a silver dollar into Potomac River set the tone for subsequent fiscal policy, it too sent a powerful message about the gravitas of the rules in the first place.

There is no compelling economic reason why a 3% budget deficit is preferable to a 2.5% deficit or a 3.5% deficit. Nor is the 2013 time frame for the 3% deficit or 2014 some kind of panacea. They are means and metrics, not ends in themselves. By confusing means and ends, officials are at risk of attributing special powers to those rather arbitrary numbers and time frame. What does it mean when Juncker says this is Greece's last chance? Or what? Or European officials will cut their nose to spite their face. Yes, it is possible for Greece to be forced out of monetary union. Two measures are needed. First Greek banks have to be cut off from the ECB's lending facilities. This has largely been achieved by the ECB's decision to no longer accept Greek sovereign bonds or guaranteed bonds as collateral for additional lending.

The ECB mitigated the impact of this decision by granting the central bank of Greece a larger limit of its Emergency Liquidity Assistance (ELA) facility. Second, if this line is not extended, and the Troika does not finally approve the June payment, Greece would have no choice but to begin printing scrip. That said, it is not clear exactly how the exit itself would play out. Most observers do not appear to have given this much thought; suffice, they seem to think, is to say Greece must go.

Could the euro zone survive without Greece? It did for the first couple of years. The problem as the pre-Socratic philosopher Heraclitus put it, "one can't step in the same river twice." An exit now is not the same thing as never having joined. The exit itself would mean that the re-denomination risk the remaining members cannot be fully addressed.

If European officials were so motivated, there are a number of measures that could be taken to put Greece on a more sustainable fiscal path. The official sector can grant lower interest rates and an extension of maturities. The ECB can sell its Greek bond holdings to the EFSF at cost and the EFSF can, in turn, give Greece a new bond with lower yields and longer maturities. The EFSF can buy the new Greek bonds (~63 bln euros) created in the private sector involvement (PSI) or it can put the cost of the recapitalization of Greek banks on its books rather than the government.

To switch metaphors, there is a Chinese saying that sometimes to scare the monkeys, one kills a chicken. By forcing Greece out, the argument goes, officials will set an example of Greece and this will harden the resolve of other debtors to do as the creditors require. Yet, can Ireland and Portugal, for example, adhere to their agreements any more than they already are? Ireland may be able to return to the capital markets next year, but with tax revenues falling further away from the targets, Portugal likely requires more assistance.

Greece is a member of NATO and has strategic assets, which if were secured by less than friendly powers, could exposure the soft underbelly of Europe. To compensate, for example, of say Russia acquiring basing rights in Greece, would cost the EU more than 30 bln euros. A poor, politically unstable Greece on the border of the euro area would also be costly.

Perhaps it is like the debate in the US about providing medical coverage to the uninsured. The uninsured get medical care in an emergency. Tax payers still pay for it, though not in a transparent or direct way. Similarly, Europe will pay for Greece whether it is in EMU or not. The more officials talk about Greece leaving or its "last chance", the more difficult it is to put the re-denomination genie back in the bottle.
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